Turkey’s exchange rate impact on prices swift and profound

The International Monetary Fund highlights in a recent report the importance of assessing the impact of the exchange rate on domestic prices in Turkey as it moves to an inflation-targeting regime.

The International Monetary Fund (IMF) highlights in a recent report the importance of assessing the impact of the exchange rate on domestic prices in Turkey as it moves to an inflation-targeting regime.

The report concludes that the impact of the exchange rate on prices is over after about a year, but is mostly felt in the first four months. The pass-through is well underway by the fourth month and completed by the eleventh month.

According to the IMF a rapid impact seems plausible for several reasons. There is a high level of dollarization and currency substitution in Turkey with many prices indexed either formally or informally to the lira-dollar exchange rate.

Pass-through is defined as the total effect a nominal exchange rate change has on import prices. The estimate thus includes the direct effect on import prices as well as the effect working through home market prices.

In addition, the report found that the pass-through to wholesale prices is more pronounced in the Republic compared to the pass-through to consumer prices. By the eleventh month, about 60 percent of the initial exchange rate shock has passed through to consumer price Moreover, pass-through in Turkey is complete in a shorter time and is larger than that estimated for other key emerging market countries.

The IMF derived its conclusions from the vector autoregression (VAR) analytical approach. The VAR uses oil prices in Turkish lira, real output, the nominal exchange rate relative to the US dollar, wholesale prices and consumer prices as variables to determine the pass-through of the exchange rate to domestic prices. — (menareport.com)